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The Icelandic Economic Miracle
Hannes H Gissurarson
Professor of Politics
University of Iceland
Adam Smith: No Miracles Wealth of Nations:
Division of labour and free trade
Limited government One’s profit not
another’s loss Coordination without
commands
Historical Highlights Settled 874-930 Commonwealth 930-1262 Under the Norwegian, later Danish, king Home rule 1904 Sovereignty, in a personal union with
Denmark, 1918 Republic, 1944
Main Facts Population 307,672 (1/12/ 2006) 103,000 sq. km (same as East
Germany) GDP per capita (PPP) 2004: $33,641 GDP per capita (PPP) 2005: $36,363 Main exports: fish, aluminium, financial
services
874-1874, One of the Poorest Could only sustain 50,000 people Famines until 19th century; then
emigration to America Poverty unfairly blamed on Danish
colonial rule Agriculture held down fisheries; ruling
farmers hindered development of resources
1874-1940, Less than Denmark
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
1870 1878 1886 1894 1902 1910 1918 1926 1934 1942
GDP per capita in 1990 US$
Iceland Denmark
Source: Hagskinna (Gudmundur Jonsson)
1940-1991, False Prosperity Profits, both in hot and cold war Wider resource base by four extensions
of EEZ, finally to 200 miles in 1975 Overfishing, first of herring, then of cod Some natural economic growth Signs of economic decline in late 1980s Turning point in 1991
The Icelandic Model 1991- Cutting subsidies Stabilising the economy Liberalising markets Privatising Cutting taxes Developing property rights to natural
resources Strengthening pension funds
Monetary Stability
0
10
20
30
40
50
60
70
80
90
1980 1983 1986 1989 1992 1995 1998 2001 2004
Inflation in %
Source: Icelandic Bureau of Statistics
From Deficits to Surpluses
-6
-4
-2
0
2
4
6
8
1988 1990 1992 1994 1996 1998 2000 2002 2004
Deficit/surplus % of GDP
Source: Icelandic Ministry of Finance
Fiscal Responsibility
0
5
10
15
20
25
30
35
40
45
50
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
% of GDP
Iceland Net Public Debt OECD Net Average Public Debt
Source: Icelandic Ministry of Finance
No Unemployment
0
1
2
3
4
5
6
7
8
1998 2000 2002 2004 2006 2008 2010
Unemployment in %
Iceland OECD
Source: Icelandic Ministry of Finance
Pension Fund Reforms Tax-financed public pension fund since 1930s Compulsory occupational pension funds since
1960s Pay-as-you-go funds replaced by
accumulation funds Voluntary private pension schemes
(supplementary) Pension reforms in 1998
Pension Funds: Large Assets 2005, total assets of occupational pension
funds 1,200 billions ISK, 120% of GDP 2004, private pension schemes savings 13
billions ISK 2004, public pension fund paid out 19.3
billions ISK; occupational pension funds 20.4 billions (to 90% of pensioneers)
2004, average individual pension about $2,000 per month (154,000 ISK)
Pension Fund Assets10 Largest Pension Fund Assets OECD 2005
0 50 100
Netherlands
Iceland
Switzerland
United States
United Kingdom
Finland
Australia
Ireland
Canada
Denmark
% of GDP
Source: OECD (Pension Markets in Focus, 2006)
Privatisation Travel bureau, printing house, publishing
house, fish processing plant, etc. 1992-2005 Government investment funds 1999, later
merged with others to form Glitnir Bank Landsbanki 2002 Bunadarbanki 2002, later merged with others
to form Kaupthing Bank Icelandic Telephone 2005 Total revenue from privatisation $2 billions
Tax Cuts Corporate incomes tax from 45% to
18% Individual incomes tax from 30.41% to
22.75% Turnover tax abolished High-incomes incomes tax abolished Net wealth tax abolished Death duties (estates tax) reduced
Corporate Incomes Tax Cut
0
5
10
15
20
25
30
35
40
1991 1993 1995 1997 1999 2001 2003 2005 2007
Tax Revenue, Billions ISK
0
5
10
15
20
25
30
35
40
45
50
Tax Rate, %
Tax Revenue, Billions ISK Tax Rate %
Source: Icelandic Ministry of Finance
Example of Laffer Curve?
0
20
40
60
80
100
120
Tax Rate in %
Tax Revenue in $
1992-2008: Share of GDP 32%
0
5
10
15
20
25
30
35
40
1992 1994 1996 1998 2000 2002 2004 2006 2008
% of GDP
Government Total RevenueMunicipalities Total Revenue
Source: Icelandic Ministry of Finance
Development of ITQ System Open access to fishing grounds led to
overfishing 1975, individual quotas (% of total
allowable catch) in herring fishery 1984, individual quotas in cod and other
demersal fisheries Gradually, quotas became transferable 1990, ITQ system made universal
Overfishing with Open Access
0
20
40
60
80
100
120
0 2 4 6 8 10 12 14 16 18 20Fishing Effort (Number of Boats)
Total Cost Total Revenue
Source: H. S. Gordon, Journal of Political Economy, 1954
Icelandic Debate on Fisheries How to reduce boats from 16 to 8? (a) Pigovian economists: government auction
of ITQs (b) Property rights theorists: ITQs permanent,
universal and freely transferable, initial allocation on basis on catch history
(b) Pareto-optimal change: No-one worse off
Efficient Fisheries Initial allocation on basis of catch history
meant owners of fishing capital bought out, not driven out
Much resentment; compromise in 2002: nominal resource use fee
Total value of quotas about 350 billions ISK (appr. $5 billions)
Reduction of fishing effort; stronger and fewer fishing firms
Fishing Firms Profitable
-15
-10
-5
0
5
10
15
20
1981 1984 1987 1990 1993 1996 1999 2002
Inflation-adjusted Profit/Loss
Source: Icelandic Association of Fishing Vessel Owners
Strong Financial Sector Since 2002, total turnover of banks increased
more than 7-fold 2005, total assets of banks 7,700 billions ISK,
7-fold GDP 2005, net worth of banks 530 billions ISK,
about 50% of GDP; in 2000, net worth 7% of GDP
More than 50% of total income from abroad
Change of Icelandic Economy
Source: Icelandic Bureau of Statistics
0
20
40
60
80
100
120
140
160
180
200
1973 1977 1981 1985 1989 1993 1997 2001 2005Quantity indices (100 in 2000)
ManufacturingRetailing, etc.Financial services, pension funds, insurance
Whence Came the Money? First: ITQ system Second: Capital gains from privatisation Hernando de Soto: Previously “dead
capital” became registered, transferable, and usable as collateral
Third: Pension funds
The New Vikings: Ventures Brewery in Russia, sold to Heineken Arcadia, sold to investors Actavis investments in Bulgaria and Malta Bakkavor’s acquisition of Katsouris Fresh
Food in United Kingdom Kaupthing’s acquisition of Danish and Dutch
banks Novator investments in Eastern Europe
Economic Growth in Iceland
-1
0
1
2
3
4
5
6
7
8
9
1995 1997 1999 2001 2003 2005 2007
% of GDP
Source: Icelandic Bureau of Statistics
10 Richest Countries, 2006
0
10000
20000
30000
40000
50000
60000
70000
80000
LuxembourgNorway Ireland UnitedStates
Iceland DenmarkHong KongCanada Austria Switzerland
GDP per capita $PPP
Source: World Fact Book
All Incomes Groups Benefit Average annual increase in purchasing
power after tax 1995-2004 4.8% Annual increase of lowest 10% group
2.7% OECD average of lowest 10% group
1.8% (1996-2000)
1996-2000: Lowest 10% Income
2,3
1
0,5
2,7
6,9
1,9
0,3
0,4
1,8
0 2 4 6 8
Finland
Sweden
Denmark
Iceland
Norway
United Kingdom
Canada
United States
OECD average
% average annual increase
Source: Icelandic Bureau of Statistics (Stefan Olafsson); OECD (Michael Förster)
Risk of Poverty 2nd Lowest
0 2 4 6 8 10 12 14
Sweden
Iceland
Slovenia
Czech Republic
Norway
Netherlands
Finland
Austria
Denmark
Slovakia
% at risk of poverty
Source: Eurostat and Icelandic Bureau of Statistics
Income Distribution in Europe
0
0,05
0,1
0,15
0,2
0,25
0,3
0,35
0,4
Sweden Denmark Finland Norway Ireland UnitedKingdom
Iceland
Gini Coefficients in 2004
Source: Eurostat and Icelandic Bureau of Statistics
Rawls: Worst-Off Best-Off Which system would
we choose, if we did not know our own position in it?
Where worst-off best off (maximin rule)
Chosen: neither the Nordic nor the Anglo-Saxon model, but the Icelandic?
The Way Ahead Cutting corporate incomes tax to 10% Cutting personal incomes tax Cutting VAT Cutting import charges Continuing privatising In place of enforced equality, creating
opportunities
